Suppose your firm is considering investing in a project with the cash flows shown as follows, that the required rate of return on projects of this risk class is 8 percent, and that the maximum allowable payback and discounted payback statistics for the project are three and a half and four and a half years, respectively. Use the payback decision to evaluate this project; should it be accepted or rejected?
$$\begin{array} { l c c c c c c c c c c }
\text { Time } & 0 & 1 & 2 & 3 & 4 & 5 & 6 \
\text { Cash Flow } & - \$ 5,000 & \$ 1,300 & \$ 1,400 & \$ 1,600 & \$ 1,600 & \$ 1,100 & \$ 2,000
\end{array}$$
A) Payback = 4.44 years, reject
B) Payback = 3.44 years, accept
C) Payback = 3.54 years, reject
D) Payback = 3.24 years, reject

Question

Suppose your firm is considering investing in a project with the cash flows shown as follows, that the required rate of return on projects of this risk class is 8 percent, and that the maximum allowable payback and discounted payback statistics for the project are three and a half and four and a half years, respectively. Use the payback decision to evaluate this project; should it be accepted or rejected?
$$\begin{array} { l c c c c c c c c c c } 
\text { Time } & 0 & 1 & 2 & 3 & 4 & 5 & 6 \
\text { Cash Flow } & - \$ 5,000 & \$ 1,300 & \$ 1,400 & \$ 1,600 & \$ 1,600 & \$  1,100 & \$ 2,000
\end{array}$$
A) Payback = 4.44 years, reject
B) Payback = 3.44 years, accept
C) Payback = 3.54 years, reject
D) Payback = 3.24 years, reject

Quizplus · Accepted Answer

The payback period is calculated by adding the cash flows until the initial investment is recovered. Here, by the end of year 3, the total cash inflow is $1,300 + $1,400 + $1,600 = $4,300, which is less than the initial investment of $5,000. By the end of year 4, the total inflow is $4,300 + $1,600 = $5,900, which exceeds the initial investment. Thus, the payback period is within the first 4 years, making it less than the maximum allowable payback period of 3.5 years. Therefore, the project should be accepted based on the payback decision criterion.

Suppose Your Firm Is Considering Investing in a Project with the Cash